Kars 4 Kids Inc. v. America Can! Cars for Kids
A recent trademark infringement case involving competing not-for-profit organizations addresses several interesting issues regarding plaintiffs’ remedies and the calculation of damages. As the case made its way through the appeals process, the courts addressed the importance of supporting infringement claims with a comprehensive analysis of the case facts.
District Court Assesses Illegal Profits
In Kars 4 Kids, both parties sold donated vehicles to fund children’s programs and used similar trademarks. In this case, the plaintiff claimed that it was first to use its trademark in Texas and that the defendant infringed that trademark in the state.
Federal trademark law provides victims of infringement with several potential remedies, including lost profits damages and “disgorgement” (or repayment) of the defendant’s ill-gotten gains. In this case, the plaintiff framed its damages theory as a claim for its own lost profits, arguing for an award of the defendant’s profits as a “rough proxy measure” of its own damages. The plaintiff reasoned that it would have received all donations to the defendant but for the infringement.
The district court found that disgorgement of the defendant’s profits was more appropriate for the plaintiff’s claim than compensatory damages. The purpose of the disgorgement remedy, the court explained, is to avoid the difficulties of proving an actual diversion of sales (donations) by assuming that the infringer’s profits are derived from sales the plaintiff would have made. Because disgorgement is an equitable remedy, there’s no right to a jury trial. Also, because disgorgement would provide an adequate measure of damages, the court rejected the plaintiff’s claims for royalties and the cost of corrective advertising on grounds they’d result in a double recovery.
Experts Disagree on Damages
At the bench trial on damages, each party presented expert testimony on the calculation of disgorgement damages. The experts agreed that the defendant’s net revenue in Texas was $16,067,943, but they disagreed on expenses and other adjustments that should be deducted from that amount to arrive at net profits.
The defendant’s expert felt that revenue should be reduced to reflect factors other than the trademark that influenced donors. So, he apportioned revenue between infringing and non-infringing factors based on the ratio of advertising expenses to total operating expenses. However, the court declined to accept apportionment. It found the expert’s methodology to be illogical — plus there was no other evidence of donors’ motivations to donate cars.
The experts agreed that $3,447,191 in Texas-specific advertising expenses should be deducted from the defendant’s net revenue in Texas. But they disagreed on the treatment of overhead and other common expenses.
The plaintiff’s expert used an incremental cost approach. He opined that these expenses shouldn’t be deducted because they would have been incurred even if the defendant hadn’t operated in Texas. But the court felt that the defendant’s expert’s full absorption approach — which apportioned common expenses among all revenue sources — better reflected its revenue and expenses in Texas.
The court also held that grants weren’t deductible business expenses. In a nonprofit context, grants aren’t expenses used to generate revenue. The court explained that they’re more akin to dividends paid to shareholders in the for-profit world.
To calculate net profits, the court started with net revenue. Then it subtracted Texas-specific advertising expenses and a portion of overhead and national advertising expenses, arriving at damages of $11,247,542.
Judgment Vacated on Appeal
The U.S. Court of Appeals for the Third Circuit vacated the judgment, finding that the district court failed to consider many of the key factors that support disgorgement:
- Whether the infringer had the intent to confuse or deceive,
- Whether sales have been diverted,
- The adequacy of other remedies,
- Any unreasonable delay by the plaintiff in asserting its rights,
- The public interest in making the misconduct unprofitable, and
- Whether it’s a case of palming off (counterfeiting).
The district court addressed only the second factor. So, the appellate court remanded the case to the lower court to consider the other factors.
Sidebar: Factoring Current Market Conditions into an Expert’s Analysis
Businesses are facing unprecedented levels of uncertainty today. With geopolitical issues, supply chain shortages, interest rates hikes and record inflation, the business environment is unpredictable and evolving. As a result, historical performance is becoming increasingly less relevant when valuing businesses or estimating economic damages.
In today’s markets, experts can’t simply multiply historical cash flow by an expected growth rate when forecasting future cash flow or assume that a company’s current cost of capital will be sustainable over the long run. Likewise, older comparable transactions may be less meaningful in the current marketplace.
It’s important for experts to consider changing economic conditions when developing cash flow projections, discount rates and pricing multiples. For instance, changes in interest rates, tax laws and the availability of financing may impact the cost of debt. Plus, some companies might decide to carry more buffer stock to combat supply shortages, which could affect their working capital requirements.
Additionally, when quantifying lost profits, experts should consider the extent to which a company’s deteriorating financial performance could be attributable to external market trends. For example, some losses may be due to new government regulations or increased costs and, therefore, unrelated to the alleged wrongdoing of a defendant.
Likewise, in volatile markets, experts can evaluate industry trends to help separate losses caused by a defendant’s alleged wrongdoing from losses caused by external events. If competitors are also experiencing losses, it may be harder to claim that a plaintiff’s losses were caused by the defendant.
The moral of this case is that plaintiffs seeking lost profits in trademark infringement cases should be prepared to present evidence related to the factors that support a disgorgement claim. Contact an experienced financial expert to ensure you provide a comprehensive analysis of the case facts.